Inflation Pressures

Who are “they?” The Federal Reserve Board. And what are they doing? They are pushing up interest rates substantially, in the expectation that this will cause a recession of substantial magnitude.

When Paul Volcker was chairman of the FRB, his board pushed up the interest rates on federal funds from 6.7% in early 1978, up to a high of a bit over 19% in mid-1981. This induced big increases in all other interest rates, with yields on long-term Treasury securities exceeding 12% in 1982 and FHA mortgage rates topping 16%.

The result? By 1982 unemployment was above 10% and business failures reached their highest level since 1933.

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Alan Greenspan, Volcker’s successor at the FRB, makes no secret of his intent to follow the same path, to bring about a recession “to stifle inflation.” It will have little effect on inflation, as Kuttner explained. What it will do is increase the profits of the big banks, and encourage them to lend money unwisely, as they did under Volcker’s regime.

Greenspan has already pushed up the rate on federal funds well above 9%, and is encouraged by the action of the big banks in raising their prime rate, from 8 1/2% in early last year to 11 1/2%.

We can expect more of this same pro-bank policy, until the level of unemployment and business failures scares the Fed into reversing its course, as it once scared Volcker.